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It has been a long time, a really long time. This May, after so many years of either sitting on the sidelines or occasional rangebound trading, I felt like the bull I was during the time of my blooding into the stock market. It was a moment when I reviewed my entire portfolio and felt that in spite of the recent gains there was only one way, up. After years I feel hope; and the market echoes my sentiment.

The reason I am so bullish on the new government is that unlike the previous one which took no decisions, this one is almost sure to be decisive. The previous government either took no decisions or took terrible ones with major scams unearthed quarter after quarter. The sense of relief on its departure itself is so great that I can’t see a resumption of the bear market under any condition. As I expect the government to do positive work with focus on the essential old economy sectors, I feel that we are going to have a secular multi-year bull run. Retail investors should make use of the first dip they get. They are unlikely to get many.

Current market conditions

The Sensex has been rallying for some time. The Sensex has been rallying since Autumn 2013 but as its composition is heavily skewed and is not really a good indication of the market as a whole, I viewed the rise of the Sensex with cynicism. Only now, in May with the sectoral laggards in large cap, midcap and small cap indices finally moving decisively, we can say that we are in a secular bull market. In the past few trading sessions, we have finally seen midcaps and small caps tying with large caps on percentage gains. The market is green across the board. Selling on news happened only to a limited extent on result day with the Sensex paring down gains as the day went on. We are no longer seeing buying on news. We are seeing buying on expectations.

S&P BSE midcap finally catches up

As is clear from the chart, the Sensex (green line) has considerably outperformed the BSE midcap and it is only in May that the midcaps have begun to outperform.

Around 10th of May, when I was wondering whether to book profits before the elections, a look at non IT, pharma, FMCG,auto and financial part of the portfolio clearly demonstrated that the profits existed only in those sectors that I just excluded. Elsewhere, multi-year losses were only being partially recuperated. The stocks in manufacturing, energy, infrastructure, engineering, metals were finally looking alive but they did not seem like star athletes. That has now changed with the rise of these stocks being meteoric in the last few sessions.

A Pause?

However, the market’s movement in the afternoon today (26th May) suggests a pause or partial rollback of the action. The Sensex ended flat but in the green but prominent midcap indices were all down. This is more significant considering the fact that these indices were significantly up in the morning. Many stocks reversed 5% upmoves to end 5% down. This is a likely signal for the profit taking that many of us bulls have been waiting for. We may still see the change of leadership baton to the large caps which could take the rally further but it is more likely that we will see the Sensex and Nifty consolidate or move downwards. Even if the large caps do make a move, it is not going to be a large one. The bull market needs either a price correction or a sideways consolidation phase in order to create strong support levels for stocks to rally from.

On 2nd August 2013, the BSE Sensex and the Nifty closed at 19164 and 5678 respectively. These levels are similar to average market levels of the past year. The Sensex has maintained a tight range between 18500 and 20500 from September 2012 in a movement that may have been irritating for recent market participants who wished the indices to move upwards. I have been feeling that 19000+ is actually a dizzy level considering the actual fundamentals of the Indian economy ( refer my previous article: Markets at 16000 again’).

However, a closer look at the actual market today has managed to shake me out of this illusion. The market is nowhere near highs. In fact it is very much competing with the intermediate lows of the bear market.

Decoupling: S&P 500 and the Sensex

You may remember the infamous decoupling theory of 2007-08. The theory suggested that the Indian markets were decoupled from international markets because of the fundamental strength of the Indian economy and so would not be affected even if American and European markets burned. The theory thus argued that the Sensex could be bought even at 20000.

As the events of 2008 bore out, nothing could be further from the truth.

However, since the beginning of 2013, we have witnessed part of the premise of the theory coming true; Indian markets have decoupled from US markets. Look at the chart and you will see how the S&P and the Dow have been steadily climbing up a mountain while Indian markets have been taking a saunter along the beach.

The Sensex loses badly, very badly

Mid caps and Small Caps get smaller still

The two year chart of the Small Cap index demonstrates how Midcaps and Small Caps have dropped sharply whenever the Sensex has fallen but by much more and they have also fallen when the Sensex has only been flat.

The bottom has dropped out for small caps

The BSE Small Cap Index has fallen from 13400+ in Jan 2008 to 5178 today. This is only 90% higher than March 2009 lows. The Sensex at 19000 is 140% above March 2009 lows. The BSE 200 is 120% above the lows which seems to be a good performance. However, bear in mind that in times of correction, midcaps and small caps fall much faster and so have much lower bases at historical market lows. Midcaps and small caps are supposed to give greater returns over the long term than large caps. How is it then that we see the Sensex beating their returns so spectacularly?

One chart that shows it all

Illusion behind the Sensex

The level of 19000 too is just an illusion that quickly disappears when we see the stocks that are responsible for keeping it at that level. As it turns out, the only heroes of the index have been in FMCG, IT, Auto, Pharma and HDFC (sorry to place sectors and stocks on the same plane but HDFC and HDFC Bank are a class by themselves). From middle to low levels in terms of weightage in the Sensex, they have risen to the top. Having ITC at max weightage in the Sensex was unthinkable two years ago.

Blood on the Trading Floor

Traditional brick and mortar companies are down to multi year lows across the board. Look at SAIL, BHEL, Hindalco, GAIL, ONGC, RIL, HPCL, Tata Power, Power Grid, NTPC, Tata Steel etc. Look at banking: SBI, Bank of Baroda, Bank of India etc. A behemoth like SBI is struggling at its December 2011 support level of 1600 below which it only has the March 2009 bottom of sub 1000 levels to fall to.

SBI 2 year chart

For midcaps and small caps, pre 2007 levels have returned and many supposedly strong stocks have given up decade long gains. It is almost as if 2004-2007 had never been. The list of stocks is too long and too painful to read out so all I am telling you is to take a look at almost any midcap in the engineering, manufacturing, mining, power, metals, fertilizers, banking, realty, textile, media space. In fact, look at anything other than IT, FMCG and pharma.

The premises of every wealth manager who has talked of investing over the long term for better returns have come to nought.

The FMCG bull run has relied on the strength of India’s consumer based economy but this cannot last forever as consumption in a bear market economy is not the same as consumption in a booming one. The auto sector is already learning this.

The writing on the wall is clear. We are in a horrible, horrible bear market which is better represented by 12000 on the screen, not 19000.